Formula: $$P_b = P_f + \lambda \Delta C$$
Where:
$P_f$ = Base bond price
$\lambda$ = Sensitivity of bond to commodity price
$\Delta C$ = Change in commodity price
Model Interpretation
The bond price moves linearly with commodity price changes.
Higher λ implies higher sensitivity to the underlying commodity.
This is useful for hedging commodity risk or pricing structured products.
Key Assumptions
Commodity price changes are accurately estimated.
Sensitivity λ is constant over the bond's life.
Other market factors (interest rates, credit risk) are ignored.